$10 Oil Soon? How did we get here?

On Thursday, January 14, 2016, “Oil-Price.Net”, a commodity trader, posted $30.31/barrel for the (North Sea) Brent Crude, against which our Bonny Light is indexed.

On the same day, anchor persons on BBC World Business Today, a daily Television dialogue, quoted Standard Chartered Bank analysts predicting, pessimistically, $10/ barrel for the black gold“someday soon”. The previous day, on January 13, 2016, Ibe Kachikwu, the Nigerian minister of state for Petroleum, in a CNN interview, hoped that production cuts, to boost price, could be achieved with OPEC and non-OPEC countries, Russia inclusive.

It may wishful thinking. In the same interview few minutes later, the Minister of Petroleum of the United Arab Emirates (UAE), an OPEC member country petroleum minister, dismissed such notion, calling it “artificial”. He however expressed optimism that by end 2016, oil price would rally as demand would surge and high-cost producers would be thrown out of business?So, is the downward slide unstoppable? Is $10/barrel, at least in the short term, possible?

Commodities, crude oil no exception, experience wide price swings. Until 16 years ago (precisely March 28, 2000), when OPEC adopted the $22 -$28 price band for the OPEC basket of crude, real oil prices only exceeded $30/barrel in response to wars or conflict and especially only in the Middle East.

If long term history is anything to go by, crude oil upstream operators should plan to operate with profit under $25 per barrel of oil. Back in my early days as a geologist at Shell Petroleum, Operating Expenditure (OPEX) rarely exceeded $5/barrel. Of course, then, economy of scale helped as no field went on stream if it did not make 30,000 barrels per day. There was then, in SPDC, the Atlas of Un-appraised Discoveries (UAD) which a Dutch colleague, Aryan Schouten-Netten, taunted in Dutch tautology, “un-appraisable discoveries”. The author catalogued these then as Team Geologist for the eastern division in the mid eighties. Some of these are today the so-called “Marginal Fields” auctioned to the likes of Niger Delta Petroleum Resources (NDPR), Midwestern Oil, to name a couple. And among such fields are the likes of Uquo (operated by Dada Thomas’ Frontier Oil) and Asaramatoru (operated by Chambers Oyibo’sPrime Energy).

Memory Lane

According to the energy newsletter WTRG Economist,crude oil prices between 1869 and 2011, adjusted for inflation to 2010 United States dollars, averaged only $24.58 per barrel.This is the benchmark any upstream operator should stick to and this amount includes profit. It is the “normal” price according to industry analysts.

The Texas Railroad Commission, precursor of OPEC, regulated since 1869, domestic oil prices in the United States. It did so successfully, arm-twisting operators in the oil producing states of Texas, Oklahoma and Louisiana by putting a lid on what which field produced.

The Texas Railroad Commission effectively controlled oil prices in the United States prior to 1970. From 1948 through the 1960s, crude oil prices ranged between $2.50 and $3.00per barrel: $17 – $19 in 2010 United States dollars.

Enter OPEC

OPEC was born in1960 with founding members Iran, Iraq, Kuwait, Saudi Arabia and Venezuela. Eleven years later, its members included Qatar, Indonesia, Libya, United Arab Emirate (UAE), Algeria and Nigeria.

In1971, Texas Railroad Commission lifted lid on U. S. domestic crude production (100% proration, the industry jargon). But by then there were nomore spare production capacity in the country. The baton was passed to the new organization, OPEC, headquartered in Vienna, Austria.

Supply Shocks

Events in the middle East, since early 1970s created supply shocks while, at the same time, demand soared following post World War II recoveries in Europe, America and, lately, Asia (Japan and China).

In reaction to United States support for Israel during the Yom Kippur war, Saudi Arabia, together with other Arab oil exporting countries, embargoed oil export to the United States. The war, initially between Israel on the one part and Syria (Hafed Assad, father of the current beleaguered Assad) and Egypt on the other part, was short lived- the Six Day war. But the embargo unleashed tremendous ramifications on the oil market. Five Million barrels per day of crude were taken off the market. Oil price quadrupled to more than $12 per barrel. OPEC arrived.

Iran and Iraq

The Iranian revolution that overthrew the government of late Shah Reza Pahlavi, is reported to be the proximate cause of the highest oil price hike the world had ever witnessed since World War II. And as if that was not enough, Saddam Hussein invaded the Persian nation in a long brutal and protracted war shortly after the revolution.6.5 million barrels of crude per day were taken off the market. The combined effect of these two events increased nominal price from $14 per barrel pre-revolution Iran to $35 per barrel.

OPEC toothless bulldog?

The organization, alas, had seldom succeeded in maintaining production discipline among members. For much of the 1980s OPEC was faced with lower demand and, more important, increasing non-OPEC supplies. Between 1982 and 1985, she attempted to set, but unsuccessfully, production quotas among members. The attempts were serial failures and oil prices continued to fall. In June 1986, world oil price tumbled below $10 per barrel.

Enter Saddam Hussein (again) “Mother of all Wars”

In 1990, Saddam Hussein attempted to grab Kuwait in what he declared to an astonishing world, “Mother of all Wars”. George Hebert Walker Bush (“George the First”) routed him out but not before the oil price rose sharply to $30 per barrel.

Asia Tigers

Between 1990 and 1999, world oil consumption increased by 6.5 million barrels per day. All of that consumption increase but 300,000 barrels per day were by the Asian tigers- China, Japan and India. During the same period Russia (USSR) production steadily declined from 11 million barrels per day in 1990 to 5.5 Million barrels per day in 1999.OPEC managed to keep prices above $25 per barrel during the time.

Sheik Yamani warned

From the year 2000 prices took flight, climbing to an all time high $120 per barrel in 2008. Prior to this, in his days as Saudi Arabia oil minister and OPEC Supremo, Sheik Yamani warned of the consequences of rising oil prices: consumer nations would develop alternate energy sources and make advances in clean energy and conservation. The result today is everywhere for us all to see: the U.S., world’s biggest energy consumer, became energy sufficient and became a net exporter of oil. Asia economies seem to soft pedal and demand slackened. Iran, long kept out of the market signed nuclear deal with the West and ready to flow as much oil out of the beleaguered country as possible. War in Iraq has not shut the taps either. Alas the world is awash with crude.

Cheap oil is here to stay

Make no mistakes- cheap oil is here to stay: and for more than a few reasons. Advances in technology- ‘fracking’- provides novel methodsto exploit new reservoirs (shale) hitherto unthinkable. There is no limit to man’s ingenuity. Shale oil is here to stay. And Shale Formations are not limited to the United States alone. Sooner or later, the technology will be available elsewhere in the world further boosting crude oil extraction.

Crude vs Refined Export

It is amazing how, for so long, we exported crude oil rather than finished petroleum products. Nobody makes money selling raw materials. It is akin to the proverbial yam farmer who grows lots of yams but sends them elsewhere to obtain pounded yam to eat.

According to Global Petroleum Prices.com, an energy intelligent newsletter, world crude oil prices plummeted 44% in the last six months July 2015 – January 2016, alone. Since 2014, prices have tumbled even further. The Economist’s, an influential British weekly crude oil price index changed -50% a year on to January 2015 and an additional -35% a year on to January 2016.

The poor stuff trades today at $31per barrel 2016 United States dollars. Adjusted for inflation at 2010 United States dollars, this amounts to no more than $24 per barrel. And one year forecast said to be a mere $35 per barrel. Over the same periods, refined products prices barely nudged. Petrol, for example, averaged world-wide, 110 United States cents($1.10) per liter. It was down only by 19% to 89 cents per liter. Automotive Gas Oil (AGO), popularly known as Diesel, retailed world average 94 United States cents. It was down by a mere 18%, to 77 cents per liter.

Fortunately, our country has made a dramatic turn, took the wise decision and remove fuel (really petrol only) subsidy. Our revered former petroleum minister, Prof. Tamuno David-West, called it [fuel subsidy] “monumental fraud”. Its removal would not only free huge amount of government budget for even much more needed social service- education, hospitals, roads, etc- but would pave the way for investment in the downstream: refineries.

Aliko Dangote, Africa’s foremost business man is blazing the trail, building a huge refinery in Lagos. It is the wise thing to do. Others will follow. Dangote has lucrative shallow water assets which, when on stream, will provide steady, reliable feed stock. Not one barrel of that should go for the no longer profitable (crude oil) exports business. Every liter of the refinery’s output is sold, repeat, sold off already, I can assure him, at the Loading Bay.

In his keynote address at the 2015 annual conference of the Nigerian Association of Petroleum Explorationists (NAPE), Layi Fatona, an industry dye-in-the-wool and Managing Director NDPR, Pioneer Marginal Field Operator and independent Refiner, forecasts Africa’s refining capacity need by 2020 would be a whopping 1.8 million barrels per day. That’s about the amount of crude our oil fields produce daily. Lets shoot to refine all of that and by the end of the Buhari administration, himself a former petroleum minister, Nigeria no longer qualifies membership the unprofitable club of [crude] oil exporting countries, exporting only refined products from its numerous refineries. Amen. Amen. Amen